# Repayment Mortgage Loans

Repayment Mortgages are alternatives to Interest Only Mortgages, and are sometimes called Capital Repayment Mortgages. They are the most common type of mortgage in most countries with Anglo-Saxon property laws such as the US and UK.

Mortgage Loan

The principle of repayment mortgages is that each month a little bit of both the capital (or principal) and the interest is paid. The aim is that all the principal is paid off at the end of the term of the loan. Usually the term is set at something between 20 and 30 years. Many people take out mortgages when young, and their aim is to pay it off by retirement.

The monthly payment is determine using a complicated formula which is established to ensure that no capital is owed at the end of the term. Consider a property costing \$250,000 which is mortgaged for \$200,000, the remaining \$50,000 being a deposit. A 20 year loan has the aim that the full \$200,000 is paid off after this period. This differs from interest only loans where no capital is paid during the period of the loan, only the interest on the capital or principal.

The monthly repayment for a mortgage is calculated using:

• the interest rate
• the original amount of the loan
• the term of the loan

Mortgage Rate Calculator

A \$200,000 loan typically involves paying:

• \$955 per month at 4% annual interest over 30 years
• \$1212 per month at 4% annual interest over 20 years
• \$2025 per month at 4% annual interest over 10 years
• \$1199 per month at 6% annual interest over 30 years
• \$1433 per month at 6% annual interest over 20 years
• \$2220 per month at 6% annual interest over 10years

If your loan is \$100,000 then the amount payable is exactly half that above, for a \$500,000 loan it will be two and a half times.

You will notice several things.

• The first is that the amount payable is not proportional to interest rates, otherwise the monthly payment for a 6% loan will be one and a half times that of a 4% loan.
• The second is that the amount payable is not proportional to the term of the loan, otherwise the monthly rate of a 20 year loan would be half that of a 10 year loan.

This is because part of the monthly payment is capital and part is interest. For a \$200,000 loan at an annual interest rate of 4% over 20 years:

• at the beginning of the loan you owe \$200,000
• after the first month you pay \$1,212
• however the interest on the first month is \$200,000 x (0.04/12) or \$667 : that is because at the beginning you owe \$200,000 so the monthly interest on this is a twelfth of 4%
• therefore the amount of capital you owe is \$200,000 (the original loan) – \$1,212 (the monthly payment) + \$667 (the interest) or \$199,455
• hence in month 1 in addition to \$667 interest you pay \$545 capital
• in month 2, you still pay \$1,212 but the amount of interest is slightly less because you owe \$199,455 instead of \$200,000: it is in fact \$665 and so the amount of capital you repay that month is \$547
• If the term of the loan is shorter, e.g. 10 years compared to 20, the relative amount of capital paid is greater each month compared to interest, and so the amount owed reduces faster each month. Hence overall the total of interest over the term of the loan is less, as the amount owed reduces faster.
• If the interest rate is higher, this only influences part and not all the amount paid each month.

As time goes on the monthly payments consist more of capital and less of interest. Therefore in the first few years of a loan, the payments are primarily interest, and towards the end they are primarily capital.